Tax implications of reinvesting dividends

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sophie
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Tax implications of reinvesting dividends

Post by sophie » Sun Jun 17, 2018 11:21 am

I have a tax question for the well-informed folks on the board: what are the implications of reinvesting dividends in a taxable account on later sales of shares?

Specifically: let's say you buy 100 shares of a stock, and get a 1 share dividend per quarter. You pay tax on that dividend, but have it reinvested automatically. 5 years later, you now own 120 shares of the stock and decide to sell. Your cost basis should be what you paid for the original 100 shares PLUS the value of the 20 shares you got via reinvested dividends, at the time of each dividend. Correct?

Unfortunately, when I look at purchase lots as Fidelity reports it on the website, I see the original purchase with the original cost basis, and each dividend reinvestment listed with the number of shares (generally a fraction) and a cost basis of zero. In other words, I would expect that when I go to sell the investment, Fidelity would only take into account the original purchase when calculating cost basis.

I see two possibilities:
1. At the time of sale, Fidelity automatically adds in the amount of dividends already reported as income when calculating cost basis, in which case there's nothing to worry about. Unfortunately, this is not mentioned anywhere on Fidelity's website, so I don't know if they actually do this.

2. The cost basis as displayed is what gets reported to the IRS. This means that I am effectively double-taxed on dividends: once at the time of the dividend, and again as a capital gain when I go to sell. To correct this, I would have to laboriously hand-calculate dividend basis and then hand-edit cost basis on the tax return, which may not be possible with a program like Turbotax with auto-import of broker statements. It would also create a conflict with the statements received by the IRS, and presumably that could trigger a tax letter or audit.

I've always taken dividends in cash to avoid this issue, but now I've got a couple of individual stocks in taxable and would like to take advantage of free dividend reinvesting - tax situation permitting. If I'm right about #2 being what actually happens, that is a major caution against dividend reinvesting in a taxable account.
Dieter
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Re: Tax implications of reinvesting dividends

Post by Dieter » Sun Jun 17, 2018 6:06 pm

I think broker now required to track cost basis.

Taxed once in the dividend.

If you get a $10 div (and purchase one share worth $10), you get taxed on that $10 as dividend.

Sell that share for $11, and get taxed on the $1 gain (long or short depending on how long you keep it), but not the $10 basis.

(Exceptions in some cases, such as death)

I am not a tax professional, just a random person on the internet.
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pugchief
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Re: Tax implications of reinvesting dividends

Post by pugchief » Sun Jun 17, 2018 8:40 pm

Pretty sure with mutual funds at Vg and Fido you are getting average cost basis when you sell, and dividends that you've already paid taxes on figure into the basis. They do all the math and report at year end.
Dieter
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Re: Tax implications of reinvesting dividends

Post by Dieter » Sun Jun 17, 2018 9:18 pm

pugchief wrote:
Sun Jun 17, 2018 8:40 pm
Pretty sure with mutual funds at Vg and Fido you are getting average cost basis when you sell, and dividends that you've already paid taxes on figure into the basis. They do all the math and report at year end.
Have option for average or lot identification.
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Re: Tax implications of reinvesting dividends

Post by bedraggled » Sun Jun 17, 2018 10:10 pm

When I sold the utility stocks with the dividend reinvesting my father gave me, I went back 16 years with the quarterly statement and determined the cost bases for EACH quarterly event. That task was laborious but I did it to the penny for 6 different stocks. It was actually a bit fun to use my accounting degree, for a change. I determined the cost for each dividend to the 4 decimal places provided and then matched that with the selling price. The Long-term vs. the short-term gains were then determined.

I put it all on a pretty 2-page schedule attached it to Schedule D and the IRS was happy or impressed or both- I didn't hear from them at all.

I prepared the same format for a ute merger and again for a National grid purchase of Keyspan: NG just bought me out and said "go away." Same schedules, same result: the IRS liked it. Alas, no birthday or Christmas card from them. I actually get along well with them, having prepared the returns for my father's estate: many phone calls and questions. (Apparently, it is desirable to have the 1040 match nicely with the 1041). I always compliment and thank the agents at the other end of the phone. Am I the only one with a positive relationship with the IRS? I hope not.

As a wrap, my sister's father-in-law, a CPA/attorney, who does her joint family return thanked me for the detailed schedules I sent Sister for the above mentioned merger and the National Grid acquisition. Does that legitimize my approach?

Sophie, I hope this helps and you may be able to contact shareholder services for missing info. i have gotten help this way.

I may never do reinvesting of dividends again.
Last edited by bedraggled on Sun Jun 24, 2018 6:20 am, edited 1 time in total.
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sophie
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Re: Tax implications of reinvesting dividends

Post by sophie » Mon Jun 18, 2018 7:31 am

Thanks bedraggled! I think that answers my question. It is Scenario #2, and you WILL be double taxed on the dividends unless you track them and provide the records to the IRS when you go to sell.

That's a headache I think I'd rather not deal with, and I bet the federal government is scoring big time on the fact that few people are likely to do what bedraggled did - instead they'll just pay the extra tax. As I'm pretty sure I've done unwittingly several times in the past.
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Re: Tax implications of reinvesting dividends

Post by dualstow » Mon Jun 18, 2018 7:33 am

Where available, I try to stick with two options: average cost per share when I accumulate fund shares, and first-in-first-out (FIFO) when I sell shares of funds and individual stocks. (Note: there are at least a few voices at bogleheads arguing for selling specific lots and not selecting average cost per share. I have already switched to avg, and probably cannot easily go back).

At Fido, I only have a solo 401(k), so I thought that was the reason they didn't update the cost with reinvested dividends. Right up until your post, Sophie. I figure everything will have to be sorted out by the timeI have to start taking distributions.

At Vanguard, I used to check my cost basis vs what they supply at Vanguard and now I have an accountant do it. Sometimes it got complicated, like when Altria spun off Philip Morris International and Kraft (separately). I would go to the official site, download a PDF on how to recalculate the cost basis, and submit it to my accountant. No idea if I did it right.

I stopped reinvesting dividends in taxable, for the post part. With some holdings I will probably sell all the shares at once and buy something similar to clear out all the history of reinvested dividends. For most holdings, I plan to just die and let my wife or other heir enjoy the stepped up cost basis.

One of these days I'll write to Fidelity and ask why they don't update.
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Re: Tax implications of reinvesting dividends

Post by barrett » Mon Jun 18, 2018 7:59 am

Sophie,

Your post got me curious. The tax basis for all of my Fido accounts (taxable, tax-deferred & Roth) was funky so I gave them a call just now. Premium Services phone # is 800-544-4442.

I was able to get the reinvested dividends in my taxable account to read correctly (I was told that the default is to "average cost basis"). The rep I spoke with was able to talk me through that on the phone.

They will fix the funkiness on my Roth and tax-deferred accounts within the next 24 hours so that by this time tomorrow everything should show up correctly.

I only hold their S&P 500 fund (FUSVX) in all three accounts, but I would think they could help you to see everything correctly for reinvested dividends from individual stocks as well.

Hope that helps!
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Re: Tax implications of reinvesting dividends

Post by Cortopassi » Mon Jun 18, 2018 8:33 am

This brings up a related question from me. I have changed brokers a number of times, and lost a Quicken file along the way, so from when I started buying into the PP in 2014 to about one year ago, I have no real history I can track of when shares were bought and at what price. I used to be fastidious when I did a lot of trading, but now when it only happens once a year or less, I have not.

I assume/hope there's some reasonable method in 10-15 years when I start taking money out of calculating an estimated initial cost that isn't $0.00?
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Re: Tax implications of reinvesting dividends

Post by barrett » Mon Jun 18, 2018 9:30 am

Cortopassi wrote:
Mon Jun 18, 2018 8:33 am
This brings up a related question from me. I have changed brokers a number of times, and lost a Quicken file along the way, so from when I started buying into the PP in 2014 to about one year ago, I have no real history I can track of when shares were bought and at what price. I used to be fastidious when I did a lot of trading, but now when it only happens once a year or less, I have not.

I assume/hope there's some reasonable method in 10-15 years when I start taking money out of calculating an estimated initial cost that isn't $0.00?
Cortopassi, are you saying that the period you don't have cost basis for is from roughly 2014 until 2017? That seems to be the way your post reads but it would seem like the older transactions would be the ones you'd be less likely to have correct numbers on.

For recent transactions, everything should be available on your brokerage website.
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Re: Tax implications of reinvesting dividends

Post by Dieter » Mon Jun 18, 2018 10:39 am

Have you gone online to check if your brokerage has the info?

It's old, but:

https://www.nytimes.com/2013/03/16/your ... ments.html

"
The new reporting rules, signed into law as part of the big bailout legislation in 2008, are being phased in over a few years and don’t necessarily apply to all of your taxable holdings: banks and brokers were required to begin tracking and reporting the cost basis of stocks in taxable accounts bought in 2011 or later. Mutual funds, dividend-reinvestment plans and certain exchange-traded funds purchased beginning in 2012 are subject to the new rules.
"
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Cortopassi
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Re: Tax implications of reinvesting dividends

Post by Cortopassi » Mon Jun 18, 2018 10:44 am

barrett wrote:
Mon Jun 18, 2018 9:30 am
Cortopassi wrote:
Mon Jun 18, 2018 8:33 am
This brings up a related question from me. I have changed brokers a number of times, and lost a Quicken file along the way, so from when I started buying into the PP in 2014 to about one year ago, I have no real history I can track of when shares were bought and at what price. I used to be fastidious when I did a lot of trading, but now when it only happens once a year or less, I have not.

I assume/hope there's some reasonable method in 10-15 years when I start taking money out of calculating an estimated initial cost that isn't $0.00?
Cortopassi, are you saying that the period you don't have cost basis for is from roughly 2014 until 2017? That seems to be the way your post reads but it would seem like the older transactions would be the ones you'd be less likely to have correct numbers on.

For recent transactions, everything should be available on your brokerage website.
Interactive Brokers trade data only seems to go back 3 years, so I am missing my initial buys into all the funds, GLD, VTI, TLT, etc. I know when I opened the trades, so I can get a price to within about 1-2 months, good enough for the IRS?

But really, my bigger, lazy question is, I assume I will be continuing to buy for the next 10-15 years. Then when I go into sell mode, I *should* have most data, but what if I am just lazy, or didn't keep good records, or whatever else caused the loss of my transaction history? What is acceptable at that point for the IRS? Close guesses? An average of the fund's price from 2014-20xx as the basis? Something else?

I have literally last week changed brokers from IB to Ally, just to simplify my life. I assume in the transfer of assets, Ally does not get historical trade data from IB. Looks like I should download as much historical trade info from IB as I can.
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